Sarah Newcomb, Director of Behavioral Sciences, Morningstar
Uncertainty is everywhere, and uncertainty is stressful. In fact, human experiments have repeatedly shown that people tend to prefer even physical pain to the psychological stress of uncertainty. Financial uncertainty is especially stressful because our money is tied to our hopes, dreams, and sense of safety.
As we close out 2020, we face enormous uncertainty in our global economic systems, and by extension, in our household finances. The stress of uncertainty will drive many people to take strong, definitive action of some kind just to regain a sense of control, but we have to be careful in times of uncertainty to avoid making rash decisions that we might come to regret. Here, I’ll do my best to give you some healthy food for thought to help you talk with clients about how to keep their cool while others are losing theirs.
Rushing into action, you fail. Trying to grasp things, you lose them. Forcing a project to completion, you ruin what was almost ripe. -Lao Tsu
Beware of short-term thinking
The real existential threat to your finances is short-term thinking. Decades of research has linked short-term thinking to increased impatience and discounting of future rewards, impulsive decisions, higher debt, lower savings, excessive risk-taking, and poor health decisions.
Fear and uncertainty can make short-term thinkers of the best of us. End-of-the world narratives and our current state of pandemic confusion only serve to exacerbate the problem. It’s hard to plan for a 20-year time horizon when you can’t see past next week.
To maintain your cool as a long-term investor, you simply must find ways to see past the immediate crises. We can do this by turning our attention away from the uncertainty of things we can’t control, and onto things that are certain, and things we can control.
Confronting uncertainty with diversification
“I’ve had many worries in my life, most of which never happened.” – Unknown
Whenever the market has one of its extreme events, you can turn that into an opportunity. In the case of a market crash, you’ll have the chance to buy some great companies when they are at a discount. If there is a large upswing, you can sell
some winners that have become overpriced. You can’t control the market, but you can be prepared to take advantage of its major swings.
Rebalancing to a more appropriate asset allocation can also relieve anxiety. However, if a client is anxious because they are holding a portfolio that is heavily overweighted in one sector or asset class you may want to ask them some questions about how that came to be the case. I’d wager emotion is involved somewhere. What does this overweighting tell you about their true appetite for risk and reward, and how can you use this information to help you make decisions with them going forward?
There is always something worth investing in
Businesses today are adapting to an economy that is undergoing structural changes, a natural resource landscape that is experiencing shifts in weather patterns, and a labor force made up of people who need to stay healthy, and who increasingly demand equity and representation for all. That may seem like a list of crises, but to the long-term thinker, it’s an opportunity to invest in the economy of the future.
Every crisis is an opportunity for the market to solve it, and this means that there will continue to be a need for innovation in areas like energy production, agriculture, biomedical research and engineering, insurance, property management, and on and on. The opportunities are endless for investors who are thinking about the long term. Buy value. Sell hype. Learn to recognize both.
Patience is hard work
You’ve likely heard about the famous “marshmallow experiment.” In this study, researchers showed that kids who had the self-control and patience to wait alone in a room with a marshmallow without eating it (not an easy task for a kid!) were the same kids who showed signs of greater success later in life. My favorite detail about this study is that the kids who waited usually had some sort of coping method to help them. They would sing little songs, turn their toes into pianos, and find other ways to distract themselves.
We have more at stake than a marshmallow. In a very real way, some people’s lives and livelihoods are uncertain in this time of ambiguity. However, the skills necessary to wait for a marshmallow are the same skills we need to employ with all our might while we sit with the uncertainty of a pandemic economy. That’s the true lesson of the marshmallow experiment – that those who have healthy ways to cope with psychological stress are more likely to have positive long-term outcomes in many areas of their lives. So, let’s learn from those 4-year-olds, and get busy with positive actions while we wait out this time of prolonged uncertainty.
This time of uncertainty and delay will pass. Others will follow. I’ll leave you with another of my favorites from Lao Tzu:
“Do you have the patience to wait until your mud settles, and the water is clear? Can you remain unmoving until the right action arises by itself?”
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